TANZANIA'S 2006 MACROECONOMIC FORECASTS SLIGHTLY

C O N F I D E N T I A L DAR ES SALAAM 000551

SIPDIS

SIPDIS

DEPT FOR AF/E B YODER AND C PELT, AF/EPS T HASTINGS
TREASURY FOR L KOHLER
MCC FOR L BLACK AND G BREVNOV

E.O. 12958: DECL: 03/23/2011
TAGS: EAGR ECON EG ENRG TZ
SUBJECT: TANZANIA'S 2006 MACROECONOMIC FORECASTS SLIGHTLY
REVISED

REF: A. DAR ES SALAAM 0412


B. DAR ES SALAAM 0312

C. DAR ES SALAAM 0300

Classified By: Classified by Mary B. Johnson for reason 1.4 (d).


1. (C) SUMMARY. International financial institutions have
recently revised Tanzania's 2006 macroeconomic forecasts as a
result of the drought affecting the agriculture and energy
sectors. While the Government of Tanzania (GOT) and
development organizations try to assess the extent of
economic loss, the World Bank and the International Monetary
Fund (IMF) reduced GDP estimates by about 1 to 1.5 percent
and increased inflation forecasts by one percentage point.
The most recent IMF review of Tanzania's progress under the
Poverty Reduction Growth Facility (PRGF) revealed a rising
budget deficit and a surprising increase in interest rates on
Treasury Bills. Despite revised estimates and one or two
question marks in the IMF review, Tanzania's overall
macro-economic picture remains strong and the economy appears
resilient in the face of the ongoing food and power
shortages. The resilience of President Kikwete's popularity,
however, is also going to put to the test. While Tanzania's
economy will most likely continue to grow at a healthy rate,
external shocks have certainly complicated key political aims
of the new administration including, attaining the growth
targets needed to significantly reduce poverty (8 to 10
percent),creating one million jobs by 2010, and satisfying
the enormous expectations associated with Kikwete's
overwhelming popularity. END SUMMARY.


Drought Slows Economic Growth
--------------

2. (U) Due to insufficient rainfall in 2005 and early 2006
and the associated power shortage (Refs B,C) the World Bank
and the IMF have predicted a loss in the Gross Domestic
Product (GDP) of between 1 to 1.5 percent in 2006. Lelde
Schmitz, Country Director of IMF, said the IMF had predicted
GDP growth of 7.2 percent for calendar year 2006; now, the
IMF forecasts growth of about 5.8 percent. "We have revised
the figures downward, but the extent of GDP loss is really
anybody's guess," Schmitz told Econoff on March 13.


3. (C) Successive years of drought, and the failure of
short rains from October to December 2005, will undoubtedly
have a negative impact on the agriculture sector which
accounts for about 46 percent of Tanzania's GDP. Small
farmers will be especially hard hit since they depend heavily
on rains and lack the irrigation systems of larger, more
sophisticated estates. In particular, the lack of short
rains will impact coffee and cotton harvests in 2006.
According to the Economic Intelligence Unit (EUI)'s 2006
Country Report, exports account for about 29 percent of
Tanzania's GDP. After gold, cotton and coffee are Tanzania's
second and third largest exports respectively. While there
are few comprehensive assessments of the drought's impact on
cotton yields, Gervis Kavishe, Director of Cargill Cotton in
Shinyanga, told Econoff on March 28 that the Tanzania
Marketing Crop Board expects the cotton crop will be half the
size of last year's yield which was 700,000 bales of cotton.
Steven Fondriest, post's USAID agricultural officer, noted
that coffee harvest predictions suggest production will fall
by about 25 percent in drought stricken areas, such as
Kilimanjaro. Without the expected rains in late 2005, many
coffee plants never flowered, thus damaging the 2006
harvests.


4. (C) The ongoing power rationing (from February 4 to date)
has also been an important factor behind lowering growth
forecasts. The rising cost of electricity will naturally
impact the service and manufacturing industries which account
for 34 percent and 8.8 percent of Tanzania's GDP
respectively. "Much will depend on the long rains,"
explained S. Magonya, Director of External Affairs at the
Ministry of Finance. "A similar power crisis transpired in
1999 and again in 2003. However, once the long rains start,
people become hopeful, the private sector returns to
'business as usual' and the country tends to forget about the
more fundamental problems in the energy sector." Beginning
the second week of March, the long rains have begun in many
parts of the country; but near the key hydro-power plant,
Mtera Dam, water levels continue to drop and threaten a
collapse of that power source altogether. Predictions from
the Ministry of Energy are that power rationing will continue
at least through June 2006. Currently, power is being

rationed for about eight hours per day.


5. (SBU) In many respects, the shocks culminating in early
2006 are reminiscent of those in 2003. The failure of the
short and long rains in 2003 meant more than 2 million people
were declared at risk of food insecurity and the GOT, like in
January 2006, appealed for food aid. Power rationing was
also prevalent in 2003 as a result of insufficient rainfall.
Nevertheless, in 2003 Tanzania's economy continued to grow at
a rate of 5.5 percent, demonstrating increasing resilience to
external shocks. Over the past several years, Tanzania's
economic growth has been broad-based ranging from mining to
manufacturing to tourism and, as Judy O'Connor, Country
Director of the World Bank, noted, "such breadth is vital to
sustaining long-term economic growth."

Food Prices Push Up Inflation
--------------

6. (U) The food shortage in Tanzania, and the East African
region at large, has increased food prices considerably,
putting significant pressure on Tanzania's inflation rate.
With food accounting for more than half of the Tanzania's
consumer price index (CPI),IMF has revised its 2006
inflation forecast from five to six percent. The Economic
Intelligence Unit's 2006 Country Report forecasted a 5
percent inflation rate for 2006; however, the Bank of
Tanzania has already published figures showing a marked
upward trend in the inflation rate over the past several
months -- from 4.5 percent in September 2005 to 5.0 percent
in December 2005 to 5.4 percent inflation in January 2006.


7. (U) Ketan Patel, Managing Director of Export Trading
Company (the biggest importer/exporter of maize in Tanzania),
told Econoff March 16 that Tanzania's food shortage equates
to a problem of affordability. Over the past several months,
food prices have shot up, with staple products such as maize
most expensive in remote, rural areas of the country where
poverty is the most severe. In addition to rising food
costs, higher fuel prices are also increasing inflationary
pressure. With widespread, prolonged power rationing, power
consumers have turned to more costly, diesel generators.
IMF's Schmitz noted that the rise in fuel prices had been
"primarily passed through to TANESCO," meaning that TANESCO
has been absorbing most of the costs associated with the fuel
price hikes. Schmitz added that consumer prices had not been
adjusted to reflect higher oil prices since January 2005.
Schmitz guessed that other prices, such as hotel rates,
manufactured products etc., had also not yet been adjusted to
reflect higher costs associated0w`tx( J^%Q #|~ZS(z?*penditures in 2005, growing by
approximately 16 percent from 2004 to 2005. In the first
three quarters of 2004, expenditures were about Tsh 681
billion (approx. USD 681 million) compared with Tsh 793
billion (USD 790 million) in the first three quarters of

2005. Concerns about increased government spending and the
GOT's budget deficit vary with Tanzania's donor community.
Judy O'Connor, the World Bank's Country Director, told
Econoff on March 13 that the increased spending was in-line
with higher donor funding and directed toward social areas
such as health and education, and also roads. The EIU's 2006
report similarly explains the ratcheting up of expenditures
as a result of rising donor support and expenditures
targeting poverty reduction programs.


9. (C) Lelde Schmitz of IMF, expressed a slightly different
view, noting that "an overall injection of government
spending into the economy can generate a lot of M3 which can
lead to a crowding out effect for private sector
investments." (Note: M3 is a measure of aggregate money
supply including less liquid assets). She emphasized the
critical factor would be whether or not these expenditures
were efficient, targeting capital investments with a
sufficient rate of return to generate long-term, sustainable
economic growth.

Increase in T-Bill Rates a "Surprise"
--------------

10. (C) Another recent development highlighted by the IMF's
recent review was a marked increase in interest rates on
Treasury Bills (T-bills) from July - September 2005. Schmitz

said that the marked increase was a "real surprise."
According to figures from both the BOT and EIU, the interest
rate on T-bills jumped from 8 percent in the second quarter
to 11.5 percent in the third quarter of 2005. Schmitz noted
that for the T-bill rates to increase either the risk of the
projects must increase or the expected rate of return on
investment has increased. "Neither of these explanations
seems to apply to Tanzania's situation," Schmitz told
Econoff. Schmitz said that she believed the increase in
interest rates on T-bills reflected collusion or profiteering
by a few big banks and added that, if true, "such practice is
very worrisome."

Comment
--------------

11. (C) Among the donor community and the GOT alike,
Tanzania's strong record of macro-economic management has
become a well-known mantra. After all, as Alastair Moon,
Senior Economist at the World Bank, pointed out, "Tanzania
emerged from an election year with its key macro-economic
indicators in-tact." However, after hearing that oft recited
mantra regarding Tanzania's sound macro-economic record, one
inevitably is reminded that inroads against poverty remain
minimal despite healthy growth rates. With 80 percent of
Tanzanians depending on agriculture for their livelihood, the
lack of rains, poor harvests, and higher (if not
unaffordable) food prices, only complicate the translation
of recent growth to micro-level gains. Despite a few
percentage points here and there, Tanzania's macro-economic
picture will emerge relatively unscathed from this year's
drought. However, achieving the growth rates needed to
reduce poverty (estimated between 8-10 percent by the World
Bank),and creating President Kikwete's one million jobs by
2010 will prove far more challenging. End Comment.
RETZER